Shockwaves In The East: Zhongzhi's Bankruptcy Exposes China's Deepening Property Crisis

Despite government intervention, China's property crisis has been deepening as shadow bank Zhongzhi Enterprise Group declared bankruptcy on Jan. 5. The bank, which had financed the operations of several Chinese property developers over the years, stated in August 2023 that it was facing a liquidity crisis with many real estate companies defaulting on their debt and interest payment obligations. 

Colossal Liabilities

Zhongzhi Enterprise had assessed its overall obligations to be in the range of 420 billion to 460 billion yuan (about $59 billion to $65 billion) in late November. Meanwhile, its tangible assets were reported at only 200 billion yuan ($28.2 billion). This indicated a deficit of approximately $36.4 billion for the bank.

The shadow bank, which managed over $140 billion in total assets at its peak, cited an inability to settle outstanding debts because of insufficient assets to cover all liabilities while filing for bankruptcy with the Beijing No. 1 Intermediate People's Court. 

Zhongzhi Enterprise first raised alarms in August last year when a trust company affiliate failed to fulfill payments for high-yield investment products, contributing to the financial woes faced by President Xi Jinping amid a property crisis and economic challenges. 

The company also attributed its internal management breakdown to the death of founder Xie Zhikun and the departure of key executives, stating that earlier attempts at a “self-rescue” fell short of expectations, as outlined in a letter dated Nov. 22.

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Government Intervention

Chinese officials announced that they initiated criminal probes into the financial operations of Zhongzhi Enterprise Group on Nov. 25, just days after the troubled shadow bank reported an over $36 billion shortfall in its balance sheet. 

In a WeChat statement, Beijing police announced the implementation of “criminal mandatory measures” against several suspects, including Zhongzhi Enterprise's founder Xie. When Xie died in 2021, some of his relatives held executive positions within the company.

Broader Ramifications

In 2021, property sales in China stood at 18.2 trillion yuan ($2.5 trillion), making it one of the largest sectors contributing to the gross domestic product (GDP). Approximately 24% of China's total GDP came from real estate, making it a key driver behind the nation's economic growth. However, since 2020, a debt crisis has afflicted China’s real estate market, affecting major players like China Evergrande Group and Country Garden. The decline in home sales has significantly contributed to the drying up of their cash flows.

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The pandemic-related headwinds and other factors caused China's property sales to slump by 27% to 4.9 trillion yuan in 2022. Sales are expected to decline further by 1.8 trillion yuan in 2023. Total output from the property sector fell by 340 billion yuan in 2022 and by 51 billion yuan in the first nine months of 2023. 

As the property crisis intensifies, more real estate developers and shadow banks are expected to face liquidity problems. 

"It is still too early to call the bottom," Nomura Holdings Chief Economist Lu Ting said. "We see a material risk of another dip for the economy led by a still-depressed property sector."

S&P Global Ratings projects China's economic output to revert to 2015 levels in the worst-case scenario, as property sales could fall to nearly 10 trillion yuan. 

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